By Jason Snell
July 21, 2015 3:15 PM PT
‘It’s Tim’: What Apple’s CEO told analysts
Every quarter, Apple CEO Tim Cook talks to financial analysts for a little while after the company’s earnings are announced. This quarter was no different. Presented here, a transcript of everything Cook said on the call.
It’s been a busy and exciting quarter and I’m delighted to talk to you about the highlights.
Today we’re proud to report record June quarter results, with revenues of $49.6 billion and earnings of $10.7 billion. Our year-over-year growth rate in the fiscal third quarter accelerated over the first half of fiscal 2015. Revenues were up 33 percent, our fastest growth rate in over three years. And earnings per share were up 45 percent.
We achieved these incredibly strong results despite reducing channel inventories across our product lines by over 1 million units, and despite the challenging f-ex (foreign exchange) environment. Revenue exceeded the high end of our guidance by $1.6 billion, as we topped our internal expectations for sales of iPhone, iPad, Mac, and Apple Watch.
We had another stellar quarter for iPhone, establishing a new June Quarter record. iPhone sales grew 35 percent, which is almost three times the rate of growth of the smartphone market overall, and we gained share in all of our geographic segments. iPhone revenue grew even more strongly, up 59 percent. The strong iPhone results were broad-based, in both developed and emerging markets, and we experienced the highest switcher rate from Android that we’ve ever measured.
Most importantly, iPhone customer metrics are tremendous. ChangeWave’s most recent survey of U.S. customers found that iPhone has the highest customer-satisfaction rate of any smartphone brand by a wide margin. And that among iPhone owners planning to purchase a new phone, 86 percent plan to purchase another iPhone. That compares to 50 percent repurchase intent for the next highest brand measured.
We also had a tremendous record quarter for Mac, continuing to defy the industry trend with unit growth of 9 percent in a market that IDC estimates contracted by 12 percent. Growth was fueled by great response to our new MacBook, and we’re working hard to catch up with customer demand.
We generated over $5 billion in services revenue, setting a new all-time record. Within services, the App Store produced its best quarter ever, with revenue growing 24 percent.
Our results from greater China were outstanding, with revenue growth of 112 percent and iPhone unit growth of 87 percent. This is particularly impressive given IDC’s estimate of only 5 percent for the greater China smartphone market. We also achieved our highest-ever PC market share in the segment, with Mac sales growing 33 percent over last year. And our ecosystem in China continues to grow at a very fast pace, with App Store revenue more than doubling in the quarter.
A major highlight of the past quarter, for all of us here at Apple, was the launch of Apple Watch in April. As you know, we’ve been very excited to get this revolutionary product to customers. We started taking pre-orders in 9 countries on April 10, and demand immediately exceeded supply by a wide margin. To prioritize those first orders and to deliver the best experience for our customers, we delayed the availability of Apple Watch in our own retail stores until mid June.
We’ve made huge progress with the production ramp across the quarter, and near the end of the quarter expanded into 6 additional countries. And in just the past few days, we’ve been able to catch up with demand, enabling us to expand Apple Watch availability to a total of 19 countries currently, with three more countries to be added at the end of this month.
The feedback from Apple Watch customers is incredibly positive, and we’ve been very happy with customer satisfaction and usage statistics. Market research from Wristly measured a 97 percent customer satisfaction rate for Apple Watch, and we hear from people every day about the impact it’s having on their health, their daily routine, and how they communicate. Our own market research shows that 94 percent of Apple Watch owners wear and use it regularly, if not every day. Messaging and activity features are among the most popular, and social networking apps including Twitter, WeChat, and LINE are seeing the most usage among third-party apps.
We believe that the possibilities for Apple Watch are enormous, and that’s been reinforced in just the first few weeks since it became available to customers. For example, doctors and researchers at leading hospitals in the U.S. and Europe are already putting Apple Watch to work in improving patients’ lives. Nebraska Medicine, the latest hospital to adopt Apple Watch, has rolled out new apps that facilitate communication between patients and doctors, and provide quick access to important chart and dosage information.
Ochsner Health System of Louisiana is using Apple Watch with hypertension patients to gather important information, like daily activity and blood pressure levels. And leading cancer centers like London King’s College Hospital, are incorporating Apple Watch into trials for ongoing care and monitoring of cancer patients.
Great Apple Watch solutions go well beyond health care. Users are tracking their fitness, getting breaking news alerts, following their investments, connecting with friends, and living a healthier day. The user experience for Apple Pay and Siri is nothing short of incredible. And customers are enjoying countless other features through the over 8500 third-party apps available for Apple Watch.
This is just the beginning of what this new platform can deliver. With Apple watchOS 2, developers now have the ability to build richer and more powerful native apps for Apple Watch, taking advantage of the heart-rate sensor, the Digital Crown, accelerometer, and more, ushering in a whole new class of apps designed specifically for the wrist.
It’s a rare and special privilege to launch a new platform with such promise and potential, and I know I speak for everyone at Apple when I say that we can’t wait to see what our developers and customers do with it.
We hosted a fantastic developers conference in June, with thousands of attendees from 70 countries coming together with Apple engineers to share in the excitement of our three operating system, OS X, iOS, and watchOS. We’ve been working hard to make our products even more intelligent, more powerful, and more meaningful in all aspects of our customers’ lives, while adding new continuity features to make the experience across our devices more seamless than ever, and preserving the security and privacy that our customers deserve. Public betas of OS X El Capitan and iOS 9 are available now, and customer versions of all three updated OSes are on schedule and will be delivered in the fall.
We’re very excited about our News app, coming to iPhone and iPad with iOS 9. We believe it will be the best news reading experience on any mobile device, combining a beautiful magazine layout with real-time customized digital media content. News will follow over a million topics and pull relevant stories based on a user’s specific interest, without compromising their privacy.
We’ve already signed 25 leading publishers representing more than 75 of the world’s most influential news, sports, business, and magazine titles, including CNN, the New York Times, the Financial Times, ESPN, Bloomberg Business, Conde Nast, Hearst, Reuters, Time Inc., and the Daily Telegraph.
The September quarter is off to an exciting start. We’re thrilled by the response to Apple Music, which launched in over 100 countries on June 30. Apple Music is a single, immersive app that combines the best ways to enjoy music all in once place. It’s an incredible streaming music service, a pioneering worldwide live radio station broadcasting 24 hours a day, and a great place for music fans to connect with their favorite artists. Customers and reviewers love the human curation features of Apple Music and the way it’s helping people discover new music. Millions and millions of customers are already experiencing the new service using the three-month trial period, and the numbers are growing substantially every day. Over 15,000 artists have signed up to post on Connect, where we are already seeing great original content, including a world-premiere video by Drake. Millions of listeners around the world are tuning in to Beats 1, the first of its kind worldwide radio station featuring some of the most talented and passionate music loves on the planet.
This all adds up to a renewed sense of excitement around music, which we love and expect to continue as Apple Music gets traction with customers.
Last week we launched Apple Pay in the UK, bringing customers our easy, secure, and private way to pay. On day one we had an incredible rosted of over 1.25 million locations and major debit and credit cards from many of the UK’s most established banks supporting Apple Pay. Customers are using Apple Pay to ride the London Underground, as well as the Overground system of transports for London, and we hope this will be a model for other public transportation systems around the world.
In the U.S., we’ve seen fantastic support from merchants of all sizes. We’re excited to see this momentum continue with the new Square reader, coming this fall. It will bring Apple Pay to even more neighborhood business where you pay every day, from your corner coffee shop to your local Farmer’s Market, bolstering the 80,000 small and medium sized businesses we’re already adding every month.
American Express will add Apple Pay support for its robust portfolio of corporate cards next month, offering businesses and their employees a new way to make easy and secure payments. And as we head into the school year, 700 universities and colleges across the U.S. will accept Apple Pay, such as Auburn University; University of California, Irvine; Colorado State University; the University of Kentucky; and the University of Oklahoma, among many others. We’re on track for Apple Pay acceptance at over 1.5 million U.S. locations by the end of 2015.
I’d like to thank our customers, developers, business partners, and employees for another record-breaking quarter. We’re very hard at work on our exciting pipeline of new hardware, software, and services, and we’re continuing to expand our global reach into new markets, and we’re passionately committed to leaving the world better than we found it.
iPhone sequential unit decline
While the year-on-year iPhone growth was very attractive, the sequential unit decline in the June quarter was worse than the past two years. Why do you think that was, and in particular, why drain channel inventory when iPhone 6 is selling so well?
The channel inventory did go down by 600,000, we sold more units than we thought we would… we always run with just the amount of inventory that we think we need, and to the degree that sales are distributed in the countries disproportionately with shorter supply chains, or the standard deviation demand is less, we’d always choose to have less.
And so in this particular quarter we were able to end right at the bottom end of our range. And we view that as a good thing, not a bad thing. Obviously the revenues could’ve been much higher if we had expanded the channel, but if you don’t need to do that, that’s not how we think about the business, we run the business for the long term, not the 90-day clock.
In terms of what’s going on with iPhone, the 35 percent is almost three times the market, and if you look at it at a little narrower regional level, Western Europe grew 30 percent versus a market of 7, so four times market, Japan grew over five times market, we doubled in Korea versus a market that was shrinking, and India we grew at 93 percent, this is on top of the Greater China numbers that we’ve already covered that grew 87 percent in a quarter versus a market of 5 percent.
And so we did exceptionally well, I think, in any way that you look at it. In terms of the percentage of customers that have upgraded to a 6 and 6 Plus, versus that have not upgraded, is 73 percent, meaning that 27 percent of the installed base of customers prior to the launch of 6 and 6 Plus have now upgraded. And so we view that as a very bullish sign on the future, that there’s a lot of headroom left for upgraders. We also are incredibly happy to see the highest Android switcher rate that we’ve observed. And so from our point of view, the iPhone is doing outstanding.
To extend that to the longer term. As I’m sure you’re aware, you’re lacking some pretty significant comps as it relates to the upgrades that you’re talking about as well as significant growth in China. What is the framework that you use to convince yourselves that iPhone units can continue to grow over the longer term?
We purposely just give guidance for the current quarter and we’ve done that, and obviously the kind of numbers that we’ve indicated growth in the revenue means that iPhone would have another stellar quarter. And so we’re very confident that this quarter’s going to be great. How the future looks, we’ll take it one quarter at a time. But as I back up from it and look at it from more of a macro point of view, the things that make me very bullish is the 27 percent number I just quoted, the fact that we’re seeing the highest Android switcher rate, the customer satisfaction that we have on the iPhone versus the competition, it’s a huge margin, the loyalty rate that we have versus competition, an enormous gap there. I also look at the first-time iPhone buyers, and we’re still seeing very, very large numbers in the countries that you would want to see those in, like China and Russia and Brazil and so forth.
I also see a market that over a five-year horizon, if you look at the IDC numbers, is projected to grow from 1.3 billion in ’14 to over 1.9 billion in 2019. And so it’s an incredible market, I think everybody’s going to own a smartphone, and I think we’ve proven that we can compete for a fair number of those, as you can see from our results.
Apple Watch exceeds expectations
Let me talk about the watch some. As you know, we made the decision back in September not to disclose the shipments on the watch, and that was not a matter of not being transparent, it was a matter of not giving our competition insight [on] a product that we worked hard on. However, let me give you some color to avoid reaching a wrong conclusion.
If you look at the Other Products category, and look at the revenue in this category, it would not be an accurate thing to just look at the sequential change, or the year over year change, and assume that was the total watch revenue. Because the aggregate balance of that category, both sequentially and year over year, is shrinking. Obviously iPod is a part of that, but there are other things in there, accessories, and so forth, that are shrinking.
Secondly, to provide a bit more color, sales of the watch did exceed our expectations, and they did so despite supply still trailing demand at the end of the quarter. And to give you a little additional insight, through the end of the quarter, in fact the Apple Watch sell-through was higher than the comparable of the launch periods of the original iPhone or the original iPad. And we were able to do that with having only 680 points of sale, and as you probably know, as I had reviewed earlier, the online sales were so great at the beginning, we were not able to feed inventory to our stores until mid June, and so those points of sale pretty much the overwhelming of the low numbers of sales were not there until the last two weeks of the quarter. And so as I look at all of these things, we feel really great about how we did.
Now our objective for the quarter wasn’t primarily sales. Beyond the very good news on sales, we’re more excited about how the product is positioned for the long term, because we’re starting a new category. And as I back up and look at this, with 8500 apps, we’ve already announced the next operating system, watchOS 2, it’ll bring native apps which are gonna be killer, to the watch, even though the store roll-out was delayed, we’ve learned a lot about the buying experience, based on that experience we’re now planning to expand our channel before the holiday, because we’re convinced that the watch is going to be one of the top gifts of the holiday season.
Now, most importantly of all of this, is the customer sat is off the charts. Because we’ve constantly seen that if you can get the customer sat off the charts you can wind up doing fairly well over time. We’ve also learned a lot about managing quite an assortment and so forth. And so I sort of back up and look at this and I feel fantastic about what the team has done and delivered, and I know I never go anywhere without the watch and it’s not because I’m the CEO of Apple, I’m that attached to it. And I get lots of notes from a lot of people that feel the same way. That’s how I look at the watch.
Is Apple targeting premium market share?
We look at it a bit differently than you do. We look at it as our job to grow our products regardless of the price. Which means that we need to convince, in some cases, people to move from one price band to the other. And that we think that if we do a great job with the product, that people will be willing to spend more because they get so much more out of it. And I think you can look at the results of the iPhone and see that in action. We grew 87 percent in China, we grew 90+ percent in India, emerging markets are growing 65 percent, these numbers are unbelievable and they’re done in an environment where it’s not the best of conditions.
So that’s how we look at it. We don’t do the MBA analysis of there’s only X people buying in a price band and therefore we can only get X-Y percent. That’s not the way we’ve every looked at it. If we did, we’d never be shipping any products.
I think there’s no doubt that if you look at it, we are expanding the market size in those areas. It’s also true that there are some people who are switching from comparable price points to the iPhone and that’s great too, but I think the answer is that both of those things are happening and it’s key that we do both, not just one.
iPhone upgrade cycle
On the upgrade cycle, what we’re seeing: It’s not remarkably different. However, there’s a number of plans that people began signing up for in the last year that could change it. These are “upgrade anytime” kind of plans, they may be one-year leases, that could actually help the upgrade rate. And I think it’ll be interesting to see how that plays out over the next horizon. But generally speaking, I see positive vectors there, not negative, in the aggregate.
Are you hedging on iPhone growth with other products?
We think the phone has a lot of legs to it. Many many many years. There’s tons of innovation left at the phone, I think we’re in the early innings of it, not in the late innings, and I think the market rate of growth over the long haul will also be impressive. So it will be multiple winners here. And so that’s how I see it. In terms of the other things that we’re doing, we have some great capability and some great teams at Apple and can do more than one thing. And so we have other things that we’re working on as well, but at the aggregate level we still remain very focused, because if you look at our size versus the number of projects we have going, it’s much smaller compared to most. But that’s how we do things and that’s how we get the level of quality that we want out of each one of those.
And so the other things that you named, whether it be Apple Music or Apple Pay, both of these are very important to us, and things you didn’t mention, the Mac continues to perform very well. I am still bullish on iPad, with iOS 9 there’s some incredible productivity enhancements coming in with Split View and Slide Over and Picture in Picture, these things are incredible features. The enterprise business is picking up and more and more companies are either contracting for or writing apps themselves.
And I believe that the iPad consumer upgrade cycle will eventually occur, because as we look at the usage statistics on iPad, it remains unbelievably great. I mean, the next closest usage of the next competitor, we’re six times greater. And so these are extraordinary numbers. It’s not like people have forgotten iPad or anything, it’s a fantastic product.
So I see a lot of runway. And as I look geographically, where we’ve been doing really good in the emerging markets, our share is still not high in any of them. And so there’s a lot of headroom there as well. As there is in most developed markets as well. And so I look around and I see opportunity left and right. And that’s what we’re focused on.
Are you concerned about China’s economy?
We remain extremely bullish on China and we’re continuing to invest. Nothing that’s happened has changed our fundamental view that China will be Apple’s largest market at some point in the future. It’s true, as you point out, that the equity markets have recently been volatile. This could create some speed bumps in the near term, but to put it in context, which I think is important, despite that volatility in the Chinese market, there’s still up 90 percent over the last year, and they’re up 20 percent year to date. And so these kind of numbers are numbers I think all of us would love. Also, the stock market participation among Chinese households is fairly narrow. And the stock ownership is very concentrated in a few people who put what appears to be a smaller portion of their wealth in the market than we buy. And so I think generally this has been, at least as we see it—maybe it’s not true for other businesses—that this worry is probably overstated.
And so we’re not changing anything. We have the pedal to the metal on getting to 40 stores mid next year, as we had talked about before, we’re continuing to expand the indirect channel as well. As you point out, and I think this is a major point that many people miss, the LTE penetration in China is only at 12 percent. And China doesn’t possess the level of fiber that some other countries do. And so in order to great video performance, etc., raising that penetration is great, I think that really plays to an incredible smartphone future there.
Also, and I can’t overstate this, the rise of the middle class is continuing, and it is transforming China. I saw a recent study from McKenzie that’s projecting the upper middle class to grow from 14 percent to 54 percent of households over the 10 year period from 2012 to 2022. So we’re within that period at this moment, and you can see, for all of us who travel there so much, with every trip you can see this occurring.
And so I think we would be foolish to change our plans. I think China is a fantastic geography with an incredible, unprecedented level of opportunity there. And we’re going to be there.
Where’s the growth and how do you find new customers?
In certain geographies, the way that we win is to get switchers. In other geographies the way that we win is to get people to buy their first smartphone. In other geographics, the way that we win is to get people to upgrade from their current iPhone. And all of those are very important for us. And in many geographies it’s two of those and in some geographies it’s all three of those. And so all of those are important. We are very focused on growing iPhone around the world, not just in one geography, and getting our message out there through ads is one way to do that.
Gauging Watch demand and foreign exchange
Maybe the best way to talk about this is at the product level. On the watch, our June sales were higher than April or May. I realize that’s very different from some of what’s being written, but June sales were the highest. And so the watch had a more of a back-ended kind of skewing. The phone itself followed what I would call a normal, seasonal kind of pattern.
And if you look at the—it sounds like you’re honing in on the greater China results themselves—there’s no obvious impact for last quarter in the greater China numbers. And obviously with the consolidated number being 112 percent, it’s hard to find a lot of bad things in the numbers.
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